Strategy Comparisons
Strategy Comparisons using Risk Profiles
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Even among experienced stock and option traders, some will say, “There’s no way I would do that kind of trade!”
For instance, I trade a lot of naked puts, meaning, cash-secured short puts without long put protection. When I mention that to fellow option traders many will say “trading naked is too risky for me.” In fact, any strategy with the term “naked” in it implies, in the mind’s of many, unlimited risk.
However, you might be surprised to realize that trading a cash-secured naked put has the same risk as trading a covered call - which is customarily acknowledged as a conservative strategy- but with less capital employed.
In fact, there are many seemingly risky strategies that have the same risk profile as those that are considered conservative. When you look at each trade from a risk profile graph perspective, you will begin to see the similarities.
Let’s take a look …
Risky
Conservative
Short (Naked) Put - Sell an unprotected put with enough cash in your account to take possession of the stock.
Covered Call - Own the stock and sell a call at a higher strike.
Long Call - Buy a call (the “fools bet”)
Married Put - Buy a put to protect your stock to the downside.
Bull Call/Put - Bull Call: Own a lower strike call and sell a higher strike call for a net debit; Bull Put: Sell a higher strike put and buy a lower strike put for a net credit.
Collar - Combination of a covered call and married put; You own the stock, sell a call and buy a put.
Many similar strategies can be constructed by carefully examining risk profiles. This also represents an excellent reason to become familiar with risk profiles since it allows you to visually examine and understand the risks associated with various strategies as the price of the underlying changes.
Keep in mind that the above risk profiles are constructed with the options at expiration.